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Too-Big-to-Fail Bill Pitched as Fix for Dodd-Frank’s Flaws

Sens. Brown and Vitter propose 15% capital requirement for megabanks.

“Too-big-to-fail” legislation unveiled yesterday in Washington is needed to rein in the biggest U.S. banks because the Dodd-Frank Act has failed to guard taxpayers against future bailouts, the bill’s sponsors said.

The four largest banks -- JPMorgan Chase & Co., Bank of America Corp., Citigroup Inc. and Wells Fargo & Co -- “are nearly $2 trillion larger than they were” before getting U.S. aid to help them weather the 2008 credit crisis, Senator Sherrod Brown said in a news conference.

“If big banks want to continue risky practices, they should do so with their own assets,” said Brown, an Ohio Democrat. “Our bill will ensure a level playing field for all financial institutions by ending the subsidy for Wall Street megabanks and requiring banks to have adequate capital.”

Brown and Republican Senator David Vitter of Louisiana, whose plan is opposed by key lawmakers, are proposing a 15 percent capital requirement for so-called megabanks as a way to reduce risk and remove the perception that they would get bailouts in a crisis. Mid-size and regional banks, those between $500 billion and $50 billion in assets, would need to have 8 percent capital relative to assets.

“It is our intent to have much more protection against a crisis and against a taxpayer bailout in a crisis, and it is our intent to level the playing field and take away a government policy subsidy, if you will, that exists in the market now favoring size,” Vitter said during a roundtable meeting at the National Press Club on April 23.

The $500 billion threshold effectively puts a cap on growth for regional banks such as PNC Financial Services Group Inc. and BB&T Corp., which would be “losers” under the bill, according to Joseph Engelhard, a former Treasury Department official who is now senior vice president at Capital Alpha Partners LLC., a Washington-based firm that “offers predictive insight for capital-markets professionals,” according to its website.

“To the extent this bill gets close to passage it will make the Fed and other regulators work even harder to implement Dodd-Frank in a tougher way,” Englehard said in an interview.

The Dodd-Frank financial-regulation law was enacted in 2010, two years after a credit crisis that led to the collapse of Lehman Brothers Holdings Inc. and taxpayer bailouts that helped sustain other leading financial firms. Implementation has been slowed amid disagreement within regulatory agencies and legal challenges to some rules.

Traditional Banking

At least six banks have assets exceeding the $500 billion threshold Vitter cited April 23 for the highest capital standard: JPMorgan, Citigroup, Goldman Sachs Group Inc. and Morgan Stanley, all based in New York, as well as Charlotte, North Carolina-based Bank of America and San Francisco-based Wells Fargo.

Brown, 60, and Vitter, 51, say their bill would limit the government safety net of deposit insurance and discount lending to traditional banking operations and require affiliates and subsidiaries of large banks to be separately capitalized. It would provide regulatory relief to community banks including changes to a qualified mortgage rule, creating an independent bank examiner ombudsman for those institutions and adopting privacy notice simplification.

For Brown, who was elected to the Senate in 2006 after serving in the House, the proposal recalls his failed effort during debate over what became the Dodd-Frank Act to include an amendment to limit banks’ size. Vitter, who was elected in 2004 and joined Republicans in nearly unanimous opposition to Dodd- Frank, has criticized proposed Basel III capital standards as a “mess” and said they should be thrown out.

Their legislation faces obstacles to enactment, starting in the Senate Banking Committee, where Chairman Tim Johnson, a South Dakota Democrat, has said regulators should finish work on Dodd-Frank before determining whether it solves too big to fail. Senator Mike Crapo, the Idaho lawmaker who is the panel’s top Republican, said in an interview that setting capital standards is a job for regulators, not legislators.

The Brown-Vitter bill is also opposed by Senator Carl Levin, the Michigan Democrat who excoriated banks for their pre-crisis risk-taking in his role as chairman of the Senate’s Permanent Subcommittee on Investigations.

“I want to have tough regulation, which is what I think Dodd-Frank stood for and explicitly says,” Levin said in an interview. “I’m fighting for that. I can’t at the same time give up on that and say ‘break up the banks.’”

Systemic Threat

Supporters of the Brown-Vitter plan say further measures to curb risk are needed because Dodd-Frank failed to address the systemic threat posed by the largest banks. Bankers have said those seeking additional steps aren’t considering the regulations in the 2010 law including so-called living wills that will lay out how financial firms are to be unwound after a collapse and FDIC resolution authority for failed companies.

“Dodd-Frank allows the regulators to do what Brown-Vitter is doing because it gives them the ability to set capital requirements but the requirements they set are very low and rely on risk weights,” Anat Admati, a Stanford University finance and economics professor, said in an interview. “This a step in the right direction definitely.”

Representative Jeb Hensarling, the Texas Republican who leads the House Financial Services Committee, said at an Independent Community Bankers of America conference yesterday that he opposes the idea of downsizing banks. The problem of too big to fail can be solved through changes in bankruptcy law, Hensarling said.

“There isn’t a critical mass in Congress to pass new too-big-to-fail legislation,” said Brian Gardner, senior vice president for Washington research at Keefe, Bruyette & Woods Inc. “However if some catalyst event comes along and changes the political calculus the odds could improve.”

Ed Yingling, the former American Bankers Association president who is now a partner at law firm Covington & Burling LLP in Washington, is also dubious of the bill’s chances.

“It will get a lot of discussion but ultimately it doesn’t have any chance of moving forward,” Yingling said in an interview. “Those who understand the way Washington works will say it’s hard to see how it moves.”

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